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5 Best Practices For Optimizing Your Retirement Portfolio

One of the major changes of retirement is transitioning from salary to retirement income (retirement portfolio) to meet financial needs.

There is no one-size-fits-all solution when it comes to implementing a transition to a disbursement portfolio. The size of your portfolio, the desire to leave a legacy, the presence of annuities and life expectancy can all affect the strategy and composition of your retirement portfolio.

We must be careful with the rules of the past and rely instead on new research when it comes to financing an annuity for retirement.

The adage that annuitants should hold a percentage of fixed-income assets equivalent to their age is a thing of the past. Increasing life expectancy and changing market conditions and tax regulations have made this rule obsolete.

1. Diversify your retirement portfolio

A generally accepted recommendation in the past to budget your financial needs in retirement at 70% of the spending budget you had during your working life may also be wrong. Health care is much more expensive than it used to be, and public plan coverage may be insufficient for retirees. Also, annuitants are considerably more active than they were in the past, and it’s even possible to see the budget increase, due to increased travel or leisure activities or the like, once in retirement.

An investment portfolio must be diversified to reduce risk. Since diversification is the weapon of choice to counter risk, it’s easy to see why diversification is always important in retirement. In practice, retired investors often place too much emphasis on the fact that you have to withdraw. Although the amount withdrawn annually may seem significant, it should remain relatively modest compared to the size of the portfolio. Remember, your retirement portfolio must be able to last for decades while fighting inflation through growth.

In other words, if you withdraw 5% of the portfolio during the year, don’t forget the remaining 95%.

We must therefore continue to invest in a variety of asset classes and strategies to ensure we have a robust retirement portfolio that is capable of achieving its objectives in several economic scenarios.

2. Generate income

A retiree’s portfolio must generate income, and the amount of income must be based on the annuitant’s withdrawal needs.

How do we find the amount of income to generate? An annuitant should have 65% of his withdrawal needs financed by portfolio income once the annuities have been paid out.

Be careful not to confuse income with performance. Income refers to the interest, dividends and distributions that are periodically generated and paid into portfolios. Performance, on the other hand, refers to the portfolio’s total fluctuation, including capital gains and losses.

Income refers to interest, dividends and distributions generated on a recurring basis by issuers such as companies and governments. Be very careful when investing through financial products such as notes, funds or split shares, as some investment tools disguise the return of capital as income. In other words, the income you receive is partially or completely made up of your capital, which is then returned to you.

Generating 65% of financial needs after annuities can be more or less easy to achieve, depending on the size of the portfolio. If the annuitant has accumulated significant wealth, he can afford to generate the equivalent of 100% of his annual financial needs in interest income, dividends and distributions, for more conservative retirement planning. On the other hand, too much income can be counterproductive, since it is fiscally disadvantageous and can reduce the portfolio’s growth potential for succession or to combat inflation.

Here’s an example. A retired person’s living expenses are $100,000. They have accumulated government pensions of $20,000, so the balance of the remaining $80,000 should be 65% financed by income. We then organize the portfolios so they generate $52,000 in interest income, dividends and distributions. If, on the other hand, an investor had very substantial assets, they could opt to be more conservative and generate an annual income of $80,000, thus having all their financial needs met by income. Beyond this level, the benefit of income gradually diminishes and may, in certain circumstances, become disadvantageous.

Since income fluctuates less than the markets and is recurrent, you can plan with greater confidence to have sufficient liquidity for withdrawals. You can then count on capital gains to generate the balance of your financial needs.

3. Have a reserve

Since capital gains can disappear in unfavourable markets, a portfolio designed to generate income for a retiree should have a reserve. 

This reserve must be equivalent to at least 3 years of withdrawals not covered by income, and must be invested in liquid, secure financial products, such as government bonds or other reliable debt products.

Thus, in the event of a significant fall in the financial markets, the manager will not be obliged to sell at a loss or discount assets that he would prefer to hold on to. This reserve, which retains its value under all circumstances, can be used to generate liquidity in times of need.

The wealthy investor, who opts to have 100% of his annual needs financed by income, has less need for this reserve since he does not rely on capital gains for withdrawal purposes.

4. Optimize taxation

Avoid paying taxes by directing interest income to tax-free accounts such as registered retirement accounts.

It’s best to place capital gains-generating assets in taxable accounts, whenever possible.

It’s also counterproductive to have a portfolio that generates too much income, especially when working with taxable portfolios.

5. Set up an emergency fund 

An annuitant must have an emergency fund. The unpredictable nature of life can lead to surprises. A retiree should, therefore, establish an emergency fund to cover contingencies such as a roof that needs changing, an unexpected renovation or a major uncovered medical expense.

This emergency fund should be invested in a TFSA or regular account to avoid overburdening the tax cost of one-time withdrawals. Investing this emergency fund in the wrong type of account has the potential to make a contingency considerably more expensive than it needs to be.

Let’s go back to the initial example of a retiree with an annual cost of living of $100,000. If he were to run into a problem that cost him $25,000, the after-tax cost would be twice as high if the money had to be withdrawn from an RRSP rather than a TFSA.

This is the result of a withdrawal from an RRSP account of someone with a high tax bracket.

In retirement, as in life, it’s essential to consider all your portfolios as a whole and avoid focusing too much on the details.

Since no forecast is infallible, make sure you review your goals with a financial advisor and update your file periodically.


  • Vincent Fournier, M.Sc., CFA
    Vincent began his professional career in 1999 and is a CFA charterholder since 2004. He holds a Bachelor’s degree in Business Administration and a Masters degree in Economics. Vincent has been an active member of the CFA Montreal society and was elected President in 2010-11. He joined Claret in 2002 and is a Portfolio Manager.

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